Inherent fragility: depositors can “run” to withdraw funds first (first-come, first-served).
BUT: fragility doesn’t always lead to crises. Banks can manage risk with:
Higher equity capital (lower leverage).
More cash reserves.
2. US vs. Canadian Banking Histories
US:
Prone to crises: 17 major crises since 1790.
Adopted unit banking: most banks restricted to a single branch.
Result: lack of diversification, highly localized risks, and poor coordination.
Canada:
Zero crises in 200 years.
Banks allowed to branch nationwide, creating diversification across sectors and geography.
Small number of large banks could coordinate during shocks.
3. Diversification & Coordination
Ex ante diversification:
US banks small and local → exposed to regional shocks (e.g., crop prices).
Canadian banks large and national → risks spread across regions and industries.
Ex post coordination:
US: 20,000 small banks → no coordination possible.
Canada: a dozen or fewer large banks → could meet, cooperate, or rescue troubled banks.
4. Political Determinants
US: agrarian populism favored unit banking.
Farmers preferred local banks tied to their communities → credit “insurance.”
Opposition to branch banking viewed as opposition to Wall Street domination.
Canada: same populist impulses, but constitutional structure centralized banking regulation, preventing local populists from shaping national banking rules.
5. Crises and Political Choices
Scotland vs. England parallel:
England: monopoly Bank of England, weak regional banks, unstable.
US had 17 major crises; Canada had 0 (1790–present).
US banks held more cash & capital (0.45 cash/asset, 0.20 equity/asset) vs. Canada (0.27 cash/asset, 0.19 equity/asset), showing US banks knew they were riskier.
GDP paths of both countries are almost identical → instability difference not due to economic fundamentals.
National Monetary Commission (1910) studied Canadian banking, recognized advantages, but ignored unit banking in recommendations (politically untouchable).
Examples
Panic of 1907: led to the National Monetary Commission. Despite knowing unit banking was the problem, Congress avoided addressing it due to political backlash.
Canadian coordination: Bank of Montreal and peers cooperated to stabilize troubled banks, sometimes absorbing failing institutions preemptively.
Real estate risk: US historically subsidized mortgage risk → higher volatility. Canada avoided subsidies → fewer mortgage defaults, even in 2008.
Summary
Banking crises are not mechanically inevitable; they are shaped by political and regulatory choices.
US: unit banking + agrarian populism = high fragility and frequent crises.
Canada: nationwide branching + constitutional design = stability and zero crises.
The persistence of bad banking policy in the US illustrates how politics often outweighs economics in shaping financial systems.
Questions for Review
What structural differences explain why the US had frequent crises and Canada had none?
How does unit banking increase fragility in the US system?
Why did agrarian populists oppose branch banking despite its stability benefits?
How does the Scotland–England comparison mirror the US–Canada comparison?
What does the National Monetary Commission’s failure to address unit banking reveal about the role of politics in financial reform?